Friday, June 20, 2008

I could be too early, but I’m in after the dilution.

For over a year TV types have thought it was a good time to buy financials. They’ve all been too early and had their collective asses handed to them. I’ve taken some contrary positions and been lucky enough to make money over the same timeframe. I don’t think the group is done suffering. I think there will be more dividend cuts, capital raising, and failures.

I’ve recently bought NCC because I think it has a chance to be a 4 bagger over the next couple of years if it doesn’t FAIL!!! Obviously I think they won’t fail, but it could be worse than I believe.

Why am I willing to go where no one should? Mainly it’s because NCC has recognized much of the negatives that are still coming for other large regional banks. They were among the first to sell their sub-prime subsidiaries, stop dealing with brokers, and recognize lots of related losses. However they still have lots of exposure in real estate. They have already mostly eliminated the dividend and raised 7 billion of new equity to shore up the balance sheet. So dilution has already occurred and the downward pressure on share price that accompanies dilution and dividend cuts has already happened. Loan loss reserves are huge and hopefully close to adequate with quarterly provisioning. Finally they are under a Memo of Understanding with the regulators and that will keep their feet to the fire.

At present NCC has the highest capital of all large regionals and a very large loss reserve. They certainly have losses to take, but the new $7 B gives them some leeway with regulators. At $5ish share price you are buying the company for less than 1/4 book!!! If the reserves are still way inadequate you may be paying less than 1/2 book. The new equity has put Tier 1 capital at over 11%.

Already being a NCC shareholder pre-disaster would have been terrible, but it is a reasonable bet at the present price. It is also a price that is the same as the private equity got when they agreed to save them. Now the big question is... did JP Morgan [ actually Corsair Capital ] do a good job of due diligence and then sandbag a good price? Well who knows. But, JPM bought Bear Stearns for $2 per share and then were intimidated into raising the price to $10 before closing. Several days ago JPM officially stated that they got a tremendous bargain in the deal. Did they price this one similiarly? I hope so.

While I won’t ever know what the new equity thought, I do know that I won’t get diluted as NCC won’t be able to go back to the well for more capital, they can’t meaningly cut my dividend as they have nixed most of it already, and the market already knows they are under close scrutiny from the regulators. If they’ve done a good job of provisioning, and they started earlier than others, then I’ve bought a well capitalized bank that is the country’s 10th largest and will eventually earn reasonable money again. As that starts to be known the stock price should start to return to book value, or greater, which would be a very nice investment.

Lets hope I’m right.

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